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| MTG > SEC Filings for MTG > Form 10-Q on 11-May-2009 | All Recent SEC Filings |
11-May-2009
Quarterly Report
• Whether private mortgage insurance will remain a significant credit enhancement alternative for low down payment single family mortgages. This challenge is discussed under "Future of the Domestic Residential Housing Finance System" in our 10-K MD&A.
For additional information about these challenges, see the portions of our
10-K MD&A titled "Overview - Future of the Domestic Housing Finance System,"
"Overview - Debt at our Holding Company and Holding Company Capital Resources"
and "Overview - Private and Public Efforts to Modify Mortgage Loans and Reduce
Foreclosure."
Capital
The mortgage insurance industry is experiencing material losses, especially
on the 2006 and 2007 books. The ultimate amount of these losses will depend in
part on general economic conditions, including unemployment, and the direction
of home prices, which in turn will be influenced by general economic conditions
and other factors. Because we cannot predict future home prices or general
economic conditions with confidence, we cannot predict with confidence what our
ultimate losses will be on our 2006 and 2007 books. Our current expectation,
however, is that these books will continue to generate material incurred and
paid losses for a number of years. Unless loss trends materially mitigate, these
incurred losses could reduce our policyholders position and increase our
risk-to-capital beyond the levels necessary to meet regulatory requirements and
this could occur before the end of 2009. For additional information on these
regulatory requirements see the portion of our 10-K MD&A titled "Overview -
Capital."
At March 31, 2009, MGIC's policyholders position exceeded the required
minimum by approximately $1.2 billion, and we exceeded the required minimum by
approximately $1.3 billion on a combined statutory basis. (The combined figures
give effect to reinsurance with subsidiaries of our holding company.) At
March 31, 2009 MGIC's risk-to-capital was 14.2:1 and was 16.1:1 on a combined
statutory basis. For additional information about how we calculate
risk-to-capital, see "Liquidity and Capital Resources - Risk to Capital" below.
We believe that we have claims paying resources at MGIC that exceed our claim
obligations on our insurance in force, even in scenarios in which losses
materially exceed those that would result in not meeting regulatory
requirements. We are in discussions with the Office of the Commissioner of
Insurance of Wisconsin ("OCI") regarding contributing funds to a subsidiary of
MGIC that would provide capital to enable the subsidiary to write new business.
While we have had positive discussions with the OCI on this structure, its
implementation is subject to regulatory approvals, GSE approval and approval
from our Board of Directors. If approved, MGIC would cease writing new insurance
and the newly capitalized subsidiary would simultaneously commence writing new
insurance. The subsidiary would have its own MPP and risk-to-capital
calculations to assess its capital adequacy related to its book of business.
MGIC would no longer need to maintain the level of capital necessary to write
new business but would only need sufficient resources to pay its claims.
Based on this initiative and other options discussed in our 10-K MD&A under
"Overview - Capital" our senior management believes that we will be able to
continue to write new business on an uninterrupted basis. We can, however, give
no assurance in this regard, and higher losses, adverse changes in our
relationship with the GSEs, or reduced benefits from loss mitigation, among
other factors, could result in senior
management's belief not being realized. In addition, to the extent this belief
of senior management is a "forward-looking statement" under Section 21E(c) of
the Securities Exchange Act of 1934, as amended (and without thereby suggesting
that other forward-looking statements we make in this quarterly report are not
accompanied by meaningful cautionary statements because the reference to such
cautionary statements does not appear in immediate proximity to such other
forward-looking statements), the statements in our Risk Factors, which are an
integral part of this Management's Discussion and Analysis, are intended to
provide additional meaningful cautionary statements that identify additional
material factors that could cause actual results to differ materially from those
in this forward-looking statement of senior management.
Factors Affecting Our Results
Our results of operations are affected by:
• Premiums written and earned
Premiums written and earned in a year are influenced by:
• New insurance written, which increases insurance in force, is the
aggregate principal amount of the mortgages that are insured during a
period. Many factors affect new insurance written, including the volume
of low down payment home mortgage originations and competition to provide
credit enhancement on those mortgages, including competition from other
mortgage insurers and alternatives to mortgage insurance.
• Cancellations, which reduce insurance in force. Cancellations due to refinancings are affected by the level of current mortgage interest rates compared to the mortgage coupon rates throughout the in force book. Refinancings are also affected by current home values compared to values when the loans in the in force book became insured and the terms on which mortgage credit is available. Cancellations also include rescissions, which require us to return any premiums received related to the rescinded policy, and policies canceled due to claim payment.
• Premium rates, which are affected by the risk characteristics of the loans insured and the percentage of coverage on the loans.
• Premiums ceded to reinsurance subsidiaries of certain mortgage lenders ("captives") and risk sharing arrangements with the GSEs.
Premiums are generated by the insurance that is in force during all or a portion of the period. Hence, changes in the average insurance in force in the current period compared to an earlier period is a factor that will increase (when the average in force is higher) or reduce (when it is lower) premiums written and earned in the current period, although this effect may be enhanced (or mitigated) by differences in the average premium rate between the two periods as well as by premiums that are ceded to captives or the GSEs. Also, new insurance written and cancellations during a period will
generally have a greater effect on premiums written and earned in subsequent
periods than in the period in which these events occur.
• Investment income
Our investment portfolio is comprised almost entirely of fixed income
securities rated "A" or higher. The principal factors that influence investment
income are the size of the portfolio and its yield. As measured by amortized
cost (which excludes changes in fair market value, such as from changes in
interest rates), the size of the investment portfolio is mainly a function of
cash generated from (or used in) operations, such as net premiums received,
investment earnings, net claim payments and expenses, less cash provided by (or
used for) non-operating activities, such as debt or stock issuance or dividend
payments. Realized gains and losses are a function of the difference between the
amount received on sale of a security and the security's amortized cost, as well
as any "other than temporary" impairments. The amount received on sale of fixed
income securities is affected by the coupon rate of the security compared to the
yield of comparable securities at the time of sale.
• Losses incurred
Losses incurred are the current expense that reflects estimated payments that
will ultimately be made as a result of delinquencies on insured loans. As
explained under "Critical Accounting Policies" in the 10-K MD&A, except in the
case of premium deficiency reserves, we recognize an estimate of this expense
only for delinquent loans. Losses incurred are generally affected by:
• The state of the economy and housing values, each of which affects the
likelihood that loans will become delinquent and whether loans that are
delinquent cure their delinquency. The level of new delinquencies has
historically followed a seasonal pattern, with new delinquencies in the
first part of the year lower than new delinquencies in the latter part of
the year.
• The product mix of the in force book, with loans having higher risk characteristics generally resulting in higher delinquencies and claims.
• The size of loans insured, with higher average loan amounts tending to increase losses incurred.
• The percentage of coverage on insured loans, with deeper average coverage tending to increase incurred losses.
• Changes in housing values, which affect our ability to mitigate our losses through sales of properties with delinquent mortgages as well as borrower willingness to continue to make mortgage payments when the value of the home is below the mortgage balance.
• Rescission rates. Our estimated loss reserves reflect mitigation from rescissions of coverage using only the rate at which we have rescinded claims during recent periods.
• The distribution of claims over the life of a book. Historically, the first two years after loans are originated are a period of relatively low claims, with claims increasing substantially for several years subsequent and then declining, although persistency, the condition of the economy and other factors can affect this pattern. For example, a weak economy can lead to claims from older books continuing at stable levels or experiencing a lower rate of decline. We are currently seeing such performance as it relates to delinquencies from our older books. See "- Mortgage Insurance Earnings and Cash Flow Cycle" below.
• Changes in premium deficiency reserves
Each quarter, we re-estimate the premium deficiency reserve on the remaining
Wall Street bulk insurance in force. The premium deficiency reserve primarily
changes from quarter to quarter as a result of two factors. First, it changes as
the actual premiums, losses and expenses that were previously estimated are
recognized. Each period such items are reflected in our financial statements as
earned premium, losses incurred and expenses. The difference between the amount
and timing of actual earned premiums, losses incurred and expenses and our
previous estimates used to establish the premium deficiency reserves has an
effect (either positive or negative) on that period's results. Second, the
premium deficiency reserve changes as our assumptions relating to the present
value of expected future premiums, losses and expenses on the remaining Wall
Street bulk insurance in force change. Changes to these assumptions also have an
effect on that period's results.
• Underwriting and other expenses
The majority of our operating expenses are fixed, with some variability due
to contract underwriting volume. Contract underwriting generates fee income
included in "Other revenue."
• Interest expense
Interest expense reflects the interest associated with our outstanding debt
obligations. Our long-term debt obligations at March 31, 2009 include our
$300 million of 5.375% Senior Notes due in November 2015, approximately
$169 million of 5.625% Senior Notes due in September 2011, $200 million
outstanding under a credit facility expiring in March 2010 and $390 million in
convertible debentures due in 2063 (interest on these debentures accrues even if
we defer the payment of interest), as discussed in Notes 2 and 3 of our Notes to
Consolidated Financial Statements and under "Liquidity and Capital Resources"
below. Also as discussed in Note 1 of the Consolidated Financial Statements, we
adopted FSP APB 14-1, "Accounting for Convertible Debt Instruments That May Be
Settled in Cash upon Conversion (Including Partial Cash Settlement)", on a
retrospective basis, and our interest expense now reflects our non-convertible
debt borrowing rate on the convertible debentures of approximately 19%. At March
31, 2009, the convertible debentures are reflected as a liability on our
consolidated balance sheet at the current amortized value of $277 million, with
the unamortized discount reflected in equity.
• Income from joint ventures
Sherman
During the period in which we held an equity interest in Sherman, Sherman was
principally engaged in purchasing and collecting for its own account delinquent
consumer receivables, which are primarily unsecured, and in originating and
servicing subprime credit card receivables. The factors that affect Sherman's
consolidated results of operations are discussed in our Quarterly Report on Form
10-Q for the Quarter Ended June 30, 2008, to which you should refer.
Beginning in the first quarter of 2008, our joint venture income principally
consisted of income from Sherman. In the third quarter of 2008, we sold our
entire interest in Sherman to Sherman. As a result, beginning in the fourth
quarter of 2008, our results of operations are no longer affected by any joint
venture results. See "Results of Consolidated Operations - Joint Ventures -
Sherman" for discussion of our sale of interest in Sherman and related note
receivable.
Mortgage Insurance Earnings and Cash Flow Cycle
In our industry, a "book" is the group of loans insured in a particular
calendar year. In general, the majority of any underwriting profit (premium
revenue minus losses) that a book generates occurs in the early years of the
book, with the largest portion of any underwriting profit realized in the first
year. Subsequent years of a book generally result in modest underwriting profit
or underwriting losses. This pattern of results typically occurs because
relatively few of the claims that a book will ultimately experience typically
occur in the first few years of the book, when premium revenue is highest, while
subsequent years are affected by declining premium revenues, as the number of
insured loans decreases (primarily due to loan prepayments), and losses
increase.
2009 First Quarter Results
Our results of operations in the first quarter of 2009 were principally affected
by:
• Net premiums written and earned
Net premiums written during the first quarter of 2009 decreased when compared
to the first quarter of 2008 due to lower average premium yields which are a
result of the shift in the mix of newer writings to loans with lower
loan-to-value ratios, higher FICO scores and full documentation, which carry
lower premium rates, offset by a higher average insurance in force and lower
ceded premiums due to captive terminations and run-offs. Net premiums earned
during the first quarter of 2009 increased when compared to the first quarter of
2008 due to a decrease in new policies insured with a single premium compared to
the prior period.
• Investment income
Investment income in the first quarter of 2009 was higher when compared to
the first quarter of 2008 due to an increase in the average amortized cost of
invested assets, offset by a decrease in the pre-tax yield.
• Realized losses
Realized losses for the first quarter of 2009 increased compared to the first
quarter of 2008, and included "other than temporary" impairments on our
investment portfolio of approximately $25.7 million offset by net realized gains
on the sales of fixed income investments of approximately $8.4 million. Realized
losses in the first quarter of 2008 resulted from net realized losses on the
sales of fixed income investments.
• Losses incurred
Losses incurred for the first quarter of 2009 increased compared to the first
quarter of 2008 primarily due to a larger increase in the default inventory. The
default inventory increased by 13,530 delinquencies in the first quarter of
2009, compared to an increase of 6,469 in the first quarter of 2008. The
estimated severity continued to increase in the first quarter of 2009 primarily
as a result of the default inventory containing higher loan exposures with
expected higher average claim payments. The increase in severity was less
substantial than the increase experienced during the first quarter of 2008. The
estimated claim rate remained flat for the first quarter of 2009, compared to a
slight increase in the estimated claim rate in the first quarter of 2008.
• Premium deficiency
During the first quarter of 2009 the premium deficiency reserve on Wall Street bulk transactions declined by $165 million from $454 million, as of December 31, 2008, to $289 million as of March 31, 2009. The decrease in the premium deficiency represents the net result of actual premiums, losses and expenses as well as a $119 million change in assumptions primarily related to lower estimated ultimate losses, offset by lower estimated ultimate premiums. The $289 million premium deficiency reserve as of
March 31, 2009 reflects the present value of expected future losses and expenses
that exceeded the present value of expected future premium and already
established loss reserves.
• Underwriting and other expenses
Underwriting and other expenses for the first quarter of 2009 decreased when
compared to the same period in 2008. The decrease reflects our lower volumes of
new insurance written as well as a focus on expenses in difficult market
conditions. Also, the first quarter of 2008 included $3.3 million in one-time
consulting fees associated with the common stock offering and private placement
of the junior subordinated convertible debentures.
• Interest expense
Interest expense for the first quarter of 2009 increased when compared to the
first quarter of 2008. The increase primarily reflects the issuance of our
convertible debentures in late March and April of 2008 (interest on these
debentures accrues even if we defer the payment of interest). Also as discussed
in Note 1 of the Consolidated Financial Statements, we adopted FSP APB 14-1,
"Accounting for Convertible Debt Instruments That May Be Settled in Cash upon
Conversion (Including Partial Cash Settlement)", on a retrospective basis, and
our interest expense now reflects our non-convertible debt borrowing rate on the
convertible debentures of approximately 19%.
• Income from joint ventures
We had no income from joint ventures in the first quarter of 2009. Income
from joint ventures, net of tax, was $10.0 million in the first quarter of 2008.
The income from joint ventures in 2008 was related to our interest in Sherman
that was sold in the third quarter of 2008.
• Credit for income tax
The effective tax rate credit on our pre-tax loss was (31.8%) in the first quarter of 2009, compared to (51.7%) in the first quarter of 2008. During those periods, the rate reflected the benefits recognized from tax-preferenced investments. Our tax-preferenced investments that impact the effective tax rate consist almost entirely of tax-exempt municipal bonds. The difference in the rate was primarily the result of the establishment of a valuation allowance, which reduced the amount of tax benefits provided during the first quarter of 2009.
Results of Consolidated Operations
New insurance written
The amount of our primary new insurance written during the three months ended
March 31, 2009 and 2008 was as follows:
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